Shenzhen Absen OptoelectronicLtd's (SZSE:300389) stock is up by a considerable 51% over the past three months. Since the market usually pay for a company's long-term fundamentals, we decided to study the company's key performance indicators to see if they could be influencing the market. In this article, we decided to focus on Shenzhen Absen OptoelectronicLtd's ROE.

Return on equity or ROE is an important factor to be considered by a shareholder because it tells them how effectively their capital is being reinvested. In simpler terms, it measures the profitability of a company in relation to shareholder's equity.

How To Calculate Return On Equity?

The formula for return on equity is:

Return on Equity = Net Profit (from continuing operations) ÷ Shareholders' Equity

So, based on the above formula, the ROE for Shenzhen Absen OptoelectronicLtd is:

13% = CN¥202m ÷ CN¥1.6b (Based on the trailing twelve months to September 2024).

The 'return' is the yearly profit. Another way to think of that is that for every CN¥1 worth of equity, the company was able to earn CN¥0.13 in profit.

What Has ROE Got To Do With Earnings Growth?

Thus far, we have learned that ROE measures how efficiently a company is generating its profits. Based on how much of its profits the company chooses to reinvest or "retain", we are then able to evaluate a company's future ability to generate profits. Generally speaking, other things being equal, firms with a high return on equity and profit retention, have a higher growth rate than firms that don't share these attributes.

Shenzhen Absen OptoelectronicLtd's Earnings Growth And 13% ROE

At first glance, Shenzhen Absen OptoelectronicLtd seems to have a decent ROE. On comparing with the average industry ROE of 6.3% the company's ROE looks pretty remarkable. This probably laid the ground for Shenzhen Absen OptoelectronicLtd's significant 37% net income growth seen over the past five years. However, there could also be other causes behind this growth. For instance, the company has a low payout ratio or is being managed efficiently.

As a next step, we compared Shenzhen Absen OptoelectronicLtd's net income growth with the industry, and pleasingly, we found that the growth seen by the company is higher than the average industry growth of 3.9%.

Earnings growth is an important metric to consider when valuing a stock. The investor should try to establish if the expected growth or decline in earnings, whichever the case may be, is priced in. This then helps them determine if the stock is placed for a bright or bleak future. Is Shenzhen Absen OptoelectronicLtd fairly valued compared to other companies? These 3 valuation measures might help you decide.

Is Shenzhen Absen OptoelectronicLtd Using Its Retained Earnings Effectively?

The three-year median payout ratio for Shenzhen Absen OptoelectronicLtd is 46%, which is moderately low. The company is retaining the remaining 54%. This suggests that its dividend is well covered, and given the high growth we discussed above, it looks like Shenzhen Absen OptoelectronicLtd is reinvesting its earnings efficiently.

Moreover, Shenzhen Absen OptoelectronicLtd is determined to keep sharing its profits with shareholders which we infer from its long history of paying a dividend for at least ten years.

Conclusion

Overall, we are quite pleased with Shenzhen Absen OptoelectronicLtd's performance. Specifically, we like that the company is reinvesting a huge chunk of its profits at a high rate of return. This of course has caused the company to see substantial growth in its earnings. If the company continues to grow its earnings the way it has, that could have a positive impact on its share price given how earnings per share influence long-term share prices. Let's not forget, business risk is also one of the factors that affects the price of the stock. So this is also an important area that investors need to pay attention to before making a decision on any business. To know the 3 risks we have identified for Shenzhen Absen OptoelectronicLtd visit our risks dashboard for free.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.